Musings on Economics, Finance, and Life

Use Sweden’s Playbook

During the financial crisis, the best single piece of advice I received was: “Use Sweden’s playbook.” Sweden faced a severe financial crisis in the early 1990s and had managed it–through a combination of guarantees, capital injections, and good bank / bad bank separations–about as well as one could hope.

As our attention turns from the financial crisis to our looming fiscal crisis, that advice continues to be useful. When its financial crisis ended, Sweden found itself on an unsustainable fiscal trajectory, yet found a way to pull itself out. As Jens Henriksson wrote in a fascinating paper (“Ten Lessons about Budget Consolidation“) in 2007:

In its Economic Outlook of December 1994 the OECD projected that the Swedish public debt would explode. By the year 2000 the public debt was expected to hit a record 128 percent of GDP. Today we know that the gross debt for 2000 turned out to be less than half that figure at 53 percent. And within a few years the budget deficit, from a high of over 11 percent of GDP, turned into a large surplus.

How did Sweden do it? You should read Henriksson’s paper for all ten lessons, but two particularly important ones are:

Set clear, easily communicated budget goals (e.g., specific deficit targets that get the government debt under control).

Combine deficit-reducing measures into a single package so that it’s perceived as shared sacrifice, not as targeting specific interests.

These lessons are useful both for domestic politics and for world capital markets. Clear goals with shared sacrifice can, in the hands of strong political leaders, establish a commitment to budget consolidation, easing the path to success at home:

As a politician you can never explain why you need to cut pensions alone. But if, at the same time, you cut child benefits and unemployment insurance and raise income tax for the richest, you are on safe ground. The idea is to not single out the losers.

At the same time, clear, credible commitments will be rewarded by world capital markets through lower interest rates, which can help offset some of the contractionary effects of tightening the budget. (Henriksson’s description of Swedish politics at the time occasionally sounds like parts of the Clinton years, when the opinions of the bond market loomed large).

Those evil socialists of Sweden managed to deliver twice the performance of equity markets over the past 20yrs and on a relative basis size of government was stable versus huge expansion in the US! Sweden better capitalists now if return on capital is your metric!

Well, it sounds like sound advice, but–especially on the pension point–I must admit it is WAY too early to declare success. (I must admit I’m only reading your blog blurb and not the full paper). Sweden changed intoduced ‘automatic stabilizers’ into its social security system, which, in my relatively uniformed opinion, have yet to really need to stablize through hard times. Simply put, if (or when) the economy contracts I’m not sure that Swedish politicians will be able to hold angered retirees at bay. Of course, maybe I’m looking at this throught the lens of American politics. Also, which is to the point of your post, maybe the transparent, shared steps that have been taken are the very reason that backlash won’t happen.

Hi chappy — You raise a very important, very general point: to what extent can any of these policy changes be sustainable. In the good old days (ok, in the mid-2000s) when folks used to talk about fundamental tax reform, the question I always had was whether we knew of ways to make it robust to future changes. People always point to 1986 as a watershed (which is was), but it certainly wasn’t robust against future changes.

It is scary to read this kind of opinion in a partial Economic Blog. Sweden crisis had not the same size than this crisis for the World Economy. It’s like saying that 0,5% of lender clients default a Bank is the same as 15% default.

Hi Lucklucky — Thanks for visiting my blog. Could you please say some more about your concern? Sweden certainly experienced a severe financial crisis and the prospect of severe fiscal problems in the early 1990s, not unlike what’s happened in the United States. But, as you say, it wasn’t a worldwide crisis. It affected some neighboring countries, but other parts of the world were doing better. How do you think that changes the policy recommendations today? Thanks.

The only choice is between bad times and worse times, trying to “make up” the situation by printing money will only bring the worse. Concerning Sweden, it had a good international market to finance itself, it had the boom following the end of Cold War. Everyone was starting to do business with everyone else.
The comparison with House market is i think apt. Putting debt when the Market is growing and Houses are getting pricier have much less risk and it is much easier than when everything is going down or flat. Sweden did it in good times and was also only a “small house”. A small player can go between the raindrops.

I think this crisis also have other sub-crisis:

Capitalism efficiency 1 – Less people are necessary to produce what we need.

Capitalism efficiency 2 -Most people in developed world
have most stuff they need, except obviously essentials, like food, water energy and some replacements can hunker down for a long period.

Capitalism efficiency 3 – Like above, most public works, Houses are already made, unless there is a big technological change there is no need for many of work that made a big part of economy in XX Century.

Demography – Many Western countries have 0 to very low population growth.

1,2,3 are good things, this means economy should adjust to less work. Unfortunately many Firms are is not flexible enough. Of course it is also a culture thing.

I think 4 week days work is a necessary solution for many countries, there is no sense to have 10-20% or workforce unemployed doing nothing and even worse a lot of useless public bureaucrats plotting ways to waste resources. While maybe 50% workforce sweets.
Of course the 4 week days came with proportional pay cut, but since things get cheaper it is all advantages.

[…] has much to learn from other nations that fixed their economics and budgets after financial crises. Sweden, for example, did a remarkable job addressing the fiscal challenges that followed its financial crisis in the […]

[…] much to learn from other nations that fixed their economies and budgets after financial crises. Sweden, for example, did a remarkable job addressing the fiscal challenges that followed its financial crisis in the […]

[…] has much to learn from other nations that fixed their economies and budgets after financial crises. Sweden, for example, did a remarkable job addressing the fiscal challenges that followed its financial crisis in the […]

We can learn from the Swedes so long as we remember that Sweden is not the U.S. Sweden did not land men on the moon or create the airplane, transistor or personal computer. America’s great contribution to its citizens and the world is the liberation of the human spirit. If people want a guaranteed level of comfort, they can look to Europe as a model. The U.S., however, should remain biased toward providing opportunity over outcome, which generally means less rather than more government, a sentiment that finally may have gained a foothold during the recent debt-ceiling discussions.